Political institutions and debt crises

This paper shows that political institutions matter in explaining defaults on external and domestic debt obligations. We explore a large number of political and macroeconomic variables using a non-parametric technique to predict safety from default. The advantage of this technique is that it is able to identify patterns in the data that are not captured in standard probit analysis. We find that political factors matter, and do so in different ways for democratic and non-democratic regimes, and for domestic and external debt. In democracies, a parliamentary system or sufficient checks and balances almost guarantee the absence of default on external debt when economic fundamentals or liquidity are sufficiently strong. In dictatorships, high stability and tenure play a similar role for default on domestic debt

Procyclicality or Reverse Causality?

There is a large literature showing that fiscal policy is either acyclical or countercyclical in industrial countries and procyclical in developing countries. Most of this literature is based on OLS regressions that focus on the correlation between a fiscal variable (usually the budget balance or expenditure growth) and either GDP growth or some measure of the output gap. This paper argues that such a methodology does not permit the identification of the effect of the business cycle on fiscal policy and hence cannot be used to estimate policy reaction functions. The paper proposes a new instrument for GDP growth and shows that, once GDP growth is properly instrumented, procyclicality tends to disappear

The Short- and Long-Run Inconsistency of the Expansionary Austerity Theory: A Post-Keynesian/Evolutionist Critique

This paper provides a critical analysis of expansionary austerity theory (EAT). The focus is on the theoretical weaknesses of EAT-the extreme circumstances and fragile assumptions under which expansionary consolidations might actually take place. The paper presents a simple theoretical model that takes inspiration from both the post-Keynesian and evolutionary/institutionalist traditions. First, it demonstrates that well-designed austerity measures hardly trigger short-run economic expansions in the context of expected long-lasting consolidation plans (i.e., when adjustment plans deal with remarkably high debt-to-GDP ratios), when the so-called "financial channel" is not operative (i.e., in the context of monetarily sovereign economies), or when the degree of export responsiveness to internal devaluation is low. Even in the context of non-monetarily sovereign countries (e.g., members of the eurozone), austerity's effectiveness crucially depends on its highly disputable capacity to immediately stabilize fiscal variables. The paper then analyzes some possible long-run economic dynamics, emphasizing the high degree of instability that characterizes austerity-based adjustments plans. Path-dependency and cumulativeness make the short-run impulse effects of fiscal consolidation of paramount importance to (hopefully) obtaining any appreciable medium-to-long-run benefit. Should these effects be contractionary at the onset, the short-run costs of austerity measures can breed an endless spiral of recession and ballooning debt in the long run. If so, in the case of non-monetarily sovereign countries debt forgiveness may emerge as the ultimate solution to restore economic soundness. Alternatively, institutional innovations like those adopted since mid-2012 by the European Central Bank are required to stabilize the economy, even though they are unlikely to restore rapid growth in the absence of more active fiscal stimuli

Overlapping political budget cycle

We advance the literature on political budget cycles by testing for cycles in expenditures for elections to the legislative and the executive branches. Using municipal data, we identify cycles independently for the two branches, evaluate the effects of overlaps, and account for general year effects. We find sizable effects on expenditures before legislative elections and even larger effects before joint elections to the legislature and the office of mayor. In the case of coincident elections, we show that it is important whether the incumbent chief executive seeks reelection. To account for the potential endogeneity of that decision, we apply an IV approach using age and pension eligibility rules

Not Just Efficiency: Insolvency Law in the EU and Its Political Dimension

Certain insolvency law rules, like creditors’ priorities and set-off rights, have a distributive impact on creditors. Distributional rules reflect the hierarchies of values and interests in each jurisdiction and, as a result, have high political relevance and pose an obstacle to reforming the EU Insolvency Regulation. This paper will show the difficulty of reform by addressing two alternative options to regulate cross-border insolvencies in the European Union. The first one is the ‘choice model’, under which companies can select the insolvency law they prefer. Although such a model would allow distressed firms to select the most efficient insolvency law, it would also displace Member States’ power to protect local constituencies. The choice model therefore produces negative externalities and raises legitimacy concerns. The opposite solution is full harmonisation of insolvency law at EU level, including distributional rules. Full harmonisation would have the advantage of internalising all externalities produced by cross-border insolvencies. However, the EU legislative process, which is still based on negotiations between states, is not apt to decide on distributive insolvency rules; additionally, if harmonisation includes such rules, it will indirectly modify national social security strategies and equilibria. This debate shows that the choice regarding power allocation over bankruptcies in the EU depends on the progress of European integration and is mainly a matter of political legitimacy, not only of efficiency

Expenditure Reform in Industrialised Countries: A Case Study Approach

This study examines reforms of public expenditure in industrialised countries over the past two decades. We distinguish ambitious and timid reformers and analyse in detail reform experiences in eight case studies of ambitious reform episodes. We find that ambitious reform countries reduce spending on transfers, subsidies and public consumption while largely sparing education spending. Such expenditure retrenchment is also typically part of a comprehensive reform package that includes improvements in fiscal institutions as well as structural and other macroeconomic reforms. The study finds that ambitious expenditure retrenchment and reform coincides with large improvements in fiscal and economic growth indicators

Worker remittances and the global preconditions of ‘smart development’

With the growing environmental crisis affecting our globe, ideas to weigh economic or social progress by the ‘energy input’ necessary to achieve it are increasingly gaining acceptance. This question is intriguing and is being dealt with by a growing number of studies, focusing on the environmental price of human progress. Even more intriguing, however, is the question of which factors of social organization contribute to a responsible use of the resources of our planet to achieve a given social result (‘smart development’). In this essay, we present the first systematic study on how migration – or rather, more concretely, received worker remittances per GDP – helps the nations of our globe to enjoy social and economic progress at a relatively small environmental price. We look at the effects of migration on the balance sheets of societal accounting, based on the ‘ecological price’ of the combined performance of democracy, economic growth, gender equality, human development, research and development, and social cohesion. Feminism in power, economic freedom, population density, the UNDP education index as well as the receipt of worker remittances all significantly contribute towards a ‘smart overall development’, while high military expenditures and a high world economic openness are a bottleneck for ‘smart overall development’

Overlapping political budget cycles in the legislative and the executive

We advance the literature on political budget cycles by testing separately for cycles in expenditures for elections in the legislative and the executive. Using municipal data, we can separately identify these cycles and account for general year effects. For the executive branch, we show that it is important whether the incumbent re-runs. To account for the potential endogeneity associated with this decision, we apply a unique instrumental variables approach based on age and pension eligibility rules. We find sizable and significant effects in expenditures before council elections and before joint elections when the incumbent re-runs